attempt to measure its intrinsic value.

attempt to study everything that can affect

the security's value, including macroeconomic
factors and individually specific factors .

compare with the security's current price in
hopes of figuring out what sort of position to
take with that security (underpriced = buy,
overpriced = sell or short).



1. The market value of any good or service is
determined solely by the interaction of
supply and demand.

2. Supply and demand are governed by
numerous factors, both rational and
irrational.
3. Disregarding minor fluctuations, the prices for
individual securities and the overall value of the
market tend to move in trends, which persist for
appreciable lengths of time.

4. Prevailing trends change in reaction to shifts in
supply and demand relationships. These shifts,
no matter why they occur, can be detected
sooner or later in the action of the market itself.
Not heavily dependent on financial
accounting statements
Problems with accounting statements:
1. Lack information needed by security analysts
2. GAAP allows firms to select reporting
procedures, resulting in difficulty comparing
statements from two firms
3. Non-quantifiable factors do not show up in
financial statements
Fundamental analyst must process new
information and quickly determine a new intrinsic
value, but technical analyst merely has to
recognize a movement to a new equilibrium.

Technicians trade when a move to a new
equilibrium is underway but a fundamental
analyst finds undervalued securities that may not
adjust their prices as quickly
Assumptions of Technical Analysis
Empirical tests of Efficient Market Hypothesis
(EMH) show that prices do not move in trends
Technical Trading rules
The past may not be repeated
Patterns may become self-fulfilling prophecies
A successful rule will gain followers and become
less successful
Rules require a great deal of subjective judgement
Stock cycles typically go through a peak and
trough.

Analyze the following chart of a typical stock
price cycle and we will show a rising trend
channel, a flat trend channel, a declining
trend channel, and indications of when a
technical analyst would want to trade
Believe that the historical performance of
stocks and markets are indications of future
performance.
Behaviour of demand and supply and trend
analysis thereof are sole criteria for taking
position.
Stock prices tend to move in fairly persistent
trends.

A chart pattern is a distinct formation on a stock
chart that creates a trading signal, or a sign of future
price movements.

Chartists use these patterns to identify current trends
and trend reversals and to trigger buy and sell signals.


Stock
Price
Exhibit 15.2
Declining
Trend
Channel
Trough
Buy Point
Rising Trend Channel
Flat Trend Channel
Sell Point
Peak
Declining
Trend
Channel
Trough
Buy Point
Many analysts rely on rules developed from
the premise that the majority of investors
are wrong as the market approaches peaks
and troughs
Technicians try to determine whether
investors are strongly bullish or bearish and
then trade in the opposite direction
These positions have various indicators
Mutual fund cash positions 4 -11% Low
High Sell Buy. Contrarion believes that
mutual funds are usually wrong at peaks and
troughs. They expect high % of cash near a
market trough the time when they should
be fully invested to take advantage of the
impending market rise. Alternative way is
high cash balance indicates bullish and low
cash balance indicate left with little
potential buying power.
Credit balances in brokerage accounts indicate
potential purchasing power. Decline in balance
bearish and build up indicates bullish signal.
Investment advisory opinions 60% bearish
and 20% bullish indicates a major market
bottom(a bullish indicator) and vice versa.
OTC versus NYSE volume 112 % heavy
speculative trading and over bought market
while 87% low speculative trading and over sold
market.
Chicago Board Options Exchange (CBOE) Contrary
opinion technicians use put options holder the right
to sell stock at a specified price for a given time
period, as signals of bearish. Put-Call ratio Fluctuates
between 0.6 and 0.4 and typically less than 1 because
investors tend to be bullish and avoid selling short or
buying puts. 0.6 indicated bearish .
Futures traders bullish on stock-index futures - % of
speculators in stock index futures who are bullish
regarding stocks Bearish when moret han 70% of
speculators are bullish and reverse when ratio
declines 30% or below.


The Barrons Confidence Index - Indicators
showing behavior of sophisticated investors
Ratio of avg. yield on 10 top grade
corporate bonds to the yield on Dow Jones
avg. of 40 bonds. Technician believe the ratio
is a bullish indicator because during periods
of high confidence, investors are willing to
invest in lower quality bonds for the added
yield. When investors are pessimistic ,they
avoid investing in low quality bonds.
T-Bill - Eurodollar yield spread Spread
between T bills yield and Eurodollar rates.
International crisis this spread widens as
smart money flows to safe heavens. T bills
which causes decline in this ratio market
quality experiences trough shortly therafter
rises
Short sales by specialists
Debit balances in brokerage accounts
(margin debt) An increase in debit balances
is considered a bullish sign

Momentum Indicators
Breadth of market No of issues increased and
declined each day
Advance-decline Comulative index of net increase or
decline.
Diffusion index
Short interest
Stocks above their 200-day moving average when
more than 80% stocks are trading above 200 days
average over bought and subject to technical
correction. Less than 20% implies oversold implying
positive correction.
Daily Advances and Declines on the New York Stock Exchnage
Day 1.00 2.00 3.00 4.00 5.00
Issues Traded 3608.00 3641.00 3659.00 3651.00 3612.00
Advances 2310.00 2350.00 1558.00 2261.00 2325.00
Declines 909.00 912.00 1649.00 933.00 894.00
Unchanged 389.00 379.00 452.00 457.00 393.00
Net Advances 1401.00 1438.00 -91.00 1328.00 1431.00
Comulative
Net Advances 1401.00 2839.00 2748.00 4076.00 5507.00
Chnages in
DJIA 40.47 95.75 -15.25 108.48 140.63
The Dow theory oldest technical trading
rule
1. Major trends are like tides in the ocean
2. Intermediate trends resemble waves
3. Short-run movements are like ripples
Importance of volume
Ratio of upside-downside volume
Support and resistance levels
Moving average lines
A support level is a price level where the price tends to find support as it is going down. This means the
price is more likely to "bounce" off this level rather than break through it. However, once the price has
passed this level, by an amount exceeding some noise, it is likely to continue dropping until it finds another
support level.
A resistance level is the opposite of a support level. It is where the price tends to find resistance as it is going
up. This means the price is more likely to "bounce" off this level rather than break through it. However, once
the price has passed this level, by an amount exceeding some noise, it is likely that it will continue rising until
it finds another resistance level.
Relative-strength (RS) ratios
For individual stocks and industry groups
Bar charting
Multiple indicator charts
Point-and-figure charts
Overall feel from a consensus of
numerous technical indicators
The relative strength analysis is based on the
assumption that prices of some securities rise rapidly
during the bull phase but fall slowly during the bear
phase in relation to the market as a whole.
Such securities possess greater relative strength and
hence outperform the market.
Compute Rates of Return and classify securities
that have earned superior returns.
Ratios to identify security , or for that matter, an
industry has relative strength
Generally users of relative strength analysis plot
the ratios of the security relative to its industry, of
the industry relative to the market, and of the
security relative to the market.
Year Avg
Price of
Acme PA
Avg
Price of
Pharma
Industry
PPIA
Avg.
Price of
Market
PMA
PA/PPIA PA/PMA PPIA/
PMA
2010 40 30 200 1.33 .20 .15
2011 50 32 210 1.56 .24 .15
2012 65 38 230 1.71 .28 .17
2013 80 45 280 1.78 .29 .16
While Pharma remained more or less constant relative
to the market, Acme demonstrated strength relative to
industry as well as to the market as a whole
Short Interest Ratio in a security is simply the number of
shares that have been sold short but not yet bought back.

= Total No. of Shares Sold Short/ Avg .
Daily Trading Volume

Technical Analyst considers a high short interest ratio as a
sign of bullishness. If the short interest ratio is high, there
will be great demand for shares because those who have
sold short would have to repurchase them, regardless of
whether their expectations come out to be true or not, to
close out their positions. This will lead to buoying effect on
the prices.
Speculators buy calls when they are bullish and buy puts
when they are bearish, Since speculators are often wrong,
some technical analysts consider the put/call ratio as a
useful indicator.
= No. of Puts purchased/No. of Calls
purchased
Ratio of .70 means that only 7 puts are purchased for every 10
calls purchased.
A rise in the ratio means that speculators are pessimistic. For
the contrary technical analyst, however , this is a buy signal
because he believes that the option speculators are
generally wrong.
No. of Advancing/No of Declining
Trin = --------------------------------------------
Volume Advancing/Volume Declining

Volume Declining/No Declining
Trin =--------------------------------------------
Volume Advancing/No advancing

Trin ratio of more than 1 is deemed bearish as it
means that declining stocks have higher average
volume compared to advancing stocks, suggesting a
net selling pressure.
A moving average is the average
price of a security over a set
amount of time. By plotting a
security's average price, the price
movement is smoothed out.
Help to identify the true trend.

Moving averages are used to identify
current trends and trend reversals as well
as to set up support and resistance levels.
When a moving average is heading
upward and the price is above it, the
security is in an uptrend.
Conversely, a downward sloping moving
average with the price below can be used
to signal a downtrend.
Moving average trend reversals are formed
in two main ways: when the price moves
through a moving average and when it
moves through moving average crossovers.
Moving averages are used to provide a smooth reference
point for
Individual securities
Market indices
Commodity prices
Interest rates
Foreign exchange rates
Some use a 150-day (30 week) moving average
Changes each day
Most recent day is added and oldest day is dropped
Following calculation is performed
M150DAP
t
= (1/150)(Value
t
+ Value
t-1
+ Value
t-149
)
Francis & Ibbotson Chapter 26: Technical Analysis 31
Moving averages computed over short time frames follow
daily prices more closely
More volatile than longer-term moving averages
Technicians analyze difference between daily price and
moving average
If daily prices penetrate moving average line it is a signal to take
action
If daily price moves down through a moving average, price fails to rise for
many months
Sell signal
If daily prices are above moving average but difference is narrowing
Signals end of bull market may be near
Moving average analysts recommend buying
stock if
Moving average line flattens and stock price
moves up through moving average line
Price of stock falls (temporarily) below moving
average line that is rising
Stock price is above moving average line, falls,
turns around and rises again without penetrating
moving average line
Moving average analysts recommend selling stock if
Moving average line flattens and stock price drops down
through moving average line
Stock price temporarily rises above a declining moving
average line
Stock price falls through moving average line and turns
around only to fall again without penetrating above
moving average line
Strategy is more successful if moving average is
calculated over a longer time frame
Can subscribe to chart delivery service
Can buy years of historical daily prices and
draw own charts
Can simulate trading by managing
hypothetical trades
MACD was developed by Gerald Appel as a way to
keep track of a moving average cross over system.
Appel defined MACD as the difference between a
12-day and 26-day moving average. A 9-day
moving average of this difference is used to
generate signals.
When this signal line goes from negative to
positive, a buy signal is generated.
When the signal line goes from positive to negative,
a sell signal is generated.
MACD is best used in choppy (trendless) markets,
and is subject to whipsaws (in and out rapidly with
little or no profit).
Mathematically
MACD = EMA[fast,12] EMA[slow,26]

signal = EMA[period,9] of MACD

histogram = MACD signal
The period for the moving averages on which an MACD is
based can vary, but the most commonly used parameters
involve a faster EMA of 12 days, a slower EMA of 26 days,
and the signal line as a 9 day EMA of the difference between
the two. It is written in the form, MACD(faster, slower,
signal) or in this case, MACD(12,26,9).

Brock, Lakonishok and LeBaron (1992) and
Bessembinder and Chan (1998) test moving
average trading rules
Provide significant forecast power over DJIA
Found sample periods in which moving average trading
rule earned significant profits
Found many sample periods in which significant losses
occurred
New patterns can be perceived at will
Similarities between technical analysis and
Rorschach ink blot test
Intelligent technicians with good imagination can
perceive many different meaningful patterns
Technical tools are used to detect price patterns
Technical analysis assumes shifts in supply and demand occur
gradually over time
Price change pattern is extrapolated to predict future price
changes
Many financial economists believe technical analysis cannot
predict market prices
Believe security prices are a random walk
Occur in reaction to random arrival of new information
Believe a series of similar independent changes in prices are
coincidence
The other signal of a trend reversal is when one
moving average crosses through another.
If the periods used in the calculation are
relatively short, for example 15 and 35, this
could signal a short-term trend reversal.
When two averages with relatively long time
frames cross over (50 and 200, for example),
this is used to suggest a long-term shift in trend.
If 200 day average line flattens out following a previous decline, or is
advancing, and price of the stock penetrates that average line on the
upside implies a major buying signal.

If the price falls below 200 day moving average while the average line is
still rising, considered as buying opportunity.

If the price is above 200 day line and is declining towards that line, fails to
go through and starts to turn up again, implies a buying signal

If the stock price falls too fast under the declining 200 day average line, it
is entitled to an advance back toward the average line and stock can be
bought for short term technical rise.

If the stock price is below 200 day line and is advancing toward that line,
fails to go through and starts to turn down again, this is a selling signal.



Another method of determining
momentum is to look at the order
of a pair of moving averages.
When a short-term average is
above a longer-term average, the
trend is up. On the other hand, a
long-term average above a
shorter-term average signals a
downward movement in the
trend.


This moving average indicator is the least common out of
the three and is used to address the problem of the equal
weighting. The linear weighted moving average is calculated
by taking the sum of all the closing prices over a certain
time period and multiplying them by the position of the
data point and then dividing by the sum of the number of
periods. For example, in a five-day linear weighted average,
today's closing price is multiplied by five, yesterday's by four
and so on until the first day in the period range is reached.
These numbers are then added together and divided by the
sum of the multipliers.
This moving average calculation uses a
smoothing factor to place a higher weight
on recent data points and is regarded as
much more efficient than the linear
weighted average. The most important
thing to remember about the exponential
moving average is that it is more
responsive to new information relative to
the simple moving average. This
responsiveness is one of the key factors of
why this is the moving average of choice
among many technical traders. As you can
see in Figure, a 15-period EMA rises and
falls faster than a 15-period SMA. This
slight difference doesn't seem like much,
but it is an important factor to be aware
of since it can affect returns.


There are two types of patterns within this area
of technical analysis, reversal and continuation.
A reversal pattern signals that a prior trend will
reverse upon completion of the pattern.
A continuation pattern, on the other hand,
signals that a trend will continue once the
pattern is complete. These patterns can be
found over charts of any timeframe.
Head and shoulders is a reversal chart pattern
that when formed, signals that the security is
likely to move against the previous trend.
Head and shoulders top is a chart pattern that
is formed at the high of an upward movement
and signals that the upward trend is about to
end.
inverse head and shoulders is the lesser known
of the two, but is used to signal a reversal in a
downtrend.
There are four main parts:
two shoulders,
a head and
a neckline.

Each individual head and shoulder is comprised of
A high and a low.
The neckline is a level of support or resistance.
Remember that an upward trend is a period of
successive rising highs and rising lows.

The head and shoulders chart pattern, therefore,
illustrates a weakening in a trend by showing the
deterioration in the successive movements of the highs
and lows.
A cup and handle chart is a bullish continuation pattern in
which the upward trend has paused but will continue in
an upward direction once the pattern is confirmed.
Pattern looks like a cup, which is preceded by an upward
trend. The handle follows the cup formation and is formed
by a generally downward/sideways movement in the
security's price. Once the price movement pushes above
the resistance lines formed in the handle, the upward
trend can continue. There is a wide ranging time frame for
this type of pattern, with the span ranging from several
months to more than a year.
This chart pattern signals a trend reversal - it is
considered to be one of the most reliable and is
commonly used.
These patterns are formed after a sustained
trend and signal to chartists that the trend is
about to reverse.
The pattern is created when a price movement
tests support or resistance levels twice and is
unable to break through.
This pattern is often used to signal intermediate
and long-term trend reversals.


Triangles are some of the most well-known
chart patterns used in technical analysis.
The 3 types of triangles, which vary in construct
and implication, are-
symmetrical triangle,
ascending and
descending triangle.
These chart patterns are considered to last
anywhere from a couple of weeks to several
months.

The symmetrical triangle is a pattern in which two
trendlines converge toward each other. This pattern is
neutral in that a breakout to the upside or downside is a
confirmation of a trend in that direction.

In an ascending triangle, the upper trendline is flat,
while the bottom trendline is upward sloping. This is
generally thought of as a bullish pattern in which
chartists look for an upside breakout.

In a descending triangle, the lower trendline is flat and
the upper trendline is descending. This is generally seen
as a bearish pattern where chartists look for a downside
breakout.



These two short-term chart patterns are
continuation patterns that are formed when
there is a sharp price movement followed by
a generally sideways price movement. This
pattern is then completed upon another sharp
price movement in the same direction as the
move that started the trend.
The patterns are generally thought to last from
one to three weeks.



This can be either a continuation or reversal
pattern.
It is similar to a symmetrical triangle except that
the wedge pattern slants in an upward or
downward direction, while the symmetrical
triangle generally shows a sideways movement.
The other difference is that wedges tend to
form over longer periods, usually between
three and six months.

The wedges are classified as both continuation and
reversal patterns.

At the most basic level, a falling wedge is bullish and a
rising wedge is bearish.

In a falling wedge in which two trendlines are converging
in a downward direction. If the price was to rise above the
upper trendline, it would form a continuation pattern,
while a move below the lower trendline would signal a
reversal pattern.



A gap in a chart is an empty space between a
trading period and the following trading period.
This occurs when there is a large difference in
prices between two sequential trading periods.
There will be a large gap on the chart between
these two periods. Gap price movements can
be found on bar charts and candlestick charts
but will not be found on point and figure or
basic line charts.
Gaps generally show that something of
significance has happened in the security, such
as a better-than-expected earnings
announcement.



A rounding bottom, also referred to as a saucer bottom,
is a long-term reversal pattern that signals a shift from a
downward trend to an upward trend. This pattern is
traditionally thought to last anywhere from several
months to several years.

A rounding bottom chart pattern looks similar to a cup
and handle pattern but without the handle. The long-
term nature of this pattern and the lack of a
confirmation trigger, such as the handle in the cup and
handle, makes it a difficult pattern to trade.


Fibonacci numbers are a series where each succeeding
number is the sum of the two preceding numbers.
The first two Fibonacci numbers are defined to be 1, and
then the series continues as follows: 1, 1, 2, 3, 5, 8, 13, 21
As the numbers get larger, the ratio of adjacent numbers
approaches the Golden Mean: 1.618:1.
This ratio is found extensively in nature, and has been used
in architecture since the ancient Greeks (who believed that
a rectangle whose sides had the ratio of 1.618:1 was the
most aesthetically pleasing).
Technical analysts use this ratio and its inverse, 0.618,
extensively to provide projections of price moves.
Bollinger bands were created by John Bollinger (former FNN
technical analyst, and regular guest on CNBC).
Bollinger Bands are based on a moving average of the
closing price.
They are two standard deviations above and below the
moving average.
A buy signal is given when the stock price closes below the
lower band, and a sell signal is given when the stock price
closes above the upper band.
When the bands contract, that is a signal that a big move is
coming, but it is impossible to say if it will be up or down.
In my experience, the buy signals are far more reliable than
the sell signals.
The hollow or filled portion of the candlestick is
called "the body" (also referred to as "the real
body").

The long thin lines above and below the body
represent the high/low range and are called
"shadows" (also referred to as "wicks" and "tails").

If the stock closes higher than its opening price, a
hollow candlestick is drawn with the bottom of the
body representing the opening price and the top of
the body representing the closing price.
If the stock closes lower than its opening price, a
filled candlestick is drawn with the top of the body
representing the opening price and the bottom of
the body representing the closing price.
Generally speaking, the longer the body is,
the more intense the buying or selling
pressure.
Conversely, short candlesticks indicate little
price movement and represent consolidation.
Long white candlesticks show strong buying
pressure.
After extended declines, long white
candlesticks can mark a potential turning
point or support level.
If buying gets too aggressive after a long
advance, it can lead to excessive bullishness.
Long black candlesticks show strong selling
pressure.
After a long advance, a long black candlestick
can foreshadow a turning point or mark a future
resistance level.
After a long decline a long black candlestick can
indicate panic or capitulation.
Classic chart-reading is too subjective
Few TA indicator "signals" are supported by
research
Technical Analysis deals mainly with
direction
The effectiveness of indicators changes as
market behavior changes
It relies on a single source of information,
historical prices.
Even more potent long candlesticks are the Marubozu
brothers, Black and White.
Marubozu do not have upper or lower shadows and the
high and low are represented by the open or close.
A White Marubozu indicates that buyers controlled the
price action from the first trade to the last trade.
Black Marubozu indicates that sellers controlled the price
action from the first trade to the last trade.
Candlesticks with a long upper shadow and
short lower shadow indicate that buyers
dominated during the session, and bid prices
higher. However, sellers later forced prices
down from their highs, and the weak close
created a long upper shadow.

Conversely, candlesticks with long lower
shadows and short upper shadows indicate
that sellers dominated during the session and
drove prices lower. However, buyers later
resurfaced to bid prices higher by the end of
the session and the strong close created a
long lower shadow.

Candlesticks with a long upper shadow, long lower
shadow and small real body are called spinning tops.
Spinning tops represent indecision.
The small real body indicate that both bulls and bears
were active during the session.
Neither buyers nor sellers could gain the upper hand
and the result was a standoff.
After a long advance or long white candlestick, a
spinning top indicates weakness among the bulls and a
potential change or interruption in trend.
After a long decline or long black candlestick, a
spinning top indicates weakness among the bears and
a potential change or interruption in trend.
Doji form when a security's open and close are
virtually equal.
The length of the upper and lower shadows can vary
and the resulting candlestick looks like a cross,
inverted cross or plus sign.
Alone, doji are neutral patterns. Any bullish or
bearish bias is based on preceding price action and
future confirmation.
After an advance, or long white candlestick, a doji
signals that the buying pressure is starting to weaken.
After a decline, or long black candlestick, a doji signals
that selling pressure is starting to diminish.
Doji indicate that the forces of supply and demand are
becoming more evenly matched and a change in trend
may be near.
Doji alone are not enough to mark a reversal and
further confirmation may be warranted
The resulting candlestick looks like a "T" with a long lower
shadow and no upper shadow.
Dragon fly doji indicate that sellers dominated trading and drove
prices lower during the session. By the end of the session,
buyers resurfaced and pushed prices back to the opening level
and the session high.
After a long downtrend, long black candlestick, or at support, a
dragon fly doji could signal a potential bullish reversal or bottom.
After a long uptrend, long white candlestick or at resistance, the
long lower shadow could foreshadow a potential bearish
reversal or top. Bearish or bullish confirmation is required for
both situations.
The resulting candlestick looks like an upside down "T" with a
long upper shadow and no lower shadow.
Gravestone doji indicate that buyers dominated trading and
drove prices higher during the session. However, by the end
of the session, sellers resurfaced and pushed prices back to
the opening level and the session low.
After a long downtrend, long black candlestick, or at support,
focus turns to the evidence of buying pressure and a
potential bullish reversal. After a long uptrend, long white
candlestick or at resistance, focus turns to the failed rally and
a potential bearish reversal. Bearish or bullish confirmation is
required for both situations.
The Hammer is a bullish reversal pattern .
In addition to a potential trend reversal, hammers can mark
bottoms or support levels.
After a decline, hammers signal a bullish revival. The low of the
long lower shadow implies that sellers drove prices lower during
the session. However, the strong finish indicates that buyers
regained their footing to end the session on a strong note.
While this may seem enough to act on, hammers require
further bullish confirmation.
Further buying pressure, and preferably on expanding volume,
is needed before acting. Such confirmation could come from a
gap up or long white candlestick.
Hammers are similar to selling climaxes, and heavy volume can
serve to reinforce the validity of the reversal.
The Hanging Man is a bearish reversal pattern that
can also mark a top or resistance level.
Forming after an advance, a Hanging Man signals
that selling pressure is starting to increase. The low of
the long lower shadow confirms that sellers pushed
prices lower during the session.
As with the Hammer, a Hanging Man requires bearish
confirmation before action. Such confirmation can
come as a gap down or long black candlestick on
heavy volume.